Essay On Stop Loss Orders

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Stop loss orders are a great technique of risk management in equity markets. A stop loss order is an order that is used to exit from a stock when it hits a specified price.

How to use stop loss:
Let us say you have a capital of Rs.1, 00,000. You buy 100 shares a company stock at Rs. 1000.00 per share. You take into consideration that the maximum risk you can take on this investment is Rs.5000 or 5% of your investment. To manage this risk you need to a stop loss. Consider Rs.1000.00 as the market price of a share the maximum risk we can take is Rs.50 which is in accordance with the 5% risk we are willing to take. So you have that when the stock price hit Rs. 950 you will exit the stock. To put this in place we place a stop loss
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We will lose 10% value of our investment. If the stock price keeps falling to 80.00, we’ll be protected by the trailing stop loss. The trailing stop loss will ensure that the risk will be limited to 10.
If the stock price keeps increasing we will keep raising our stop loss accordingly. If the stock price goes up to Rs.110 we will raise our stop loss to 99. The stop loss is kept 10% below the current market prices. After this if the stock price falls we will not alter the stop loss. If the stop loss gets triggered then the trailing stop loss will ensure we will not lose money. On the other hand, if the stop price goes up further to 150 then we will raise the stop loss to 135. If this stop loss gets triggered then the profit would be locked in.
The advantage of using a trailing stop loss is that we were able to get more profits when the stock prices increases but at the same time have protection. For example, in the above case if the stock had turned around from 110 then we would exited positions at 99 and not lost any money. If it had turned from 150 that we would have exited positions at 135. By raising the stop loss we ensured that the profits remained locked till 135 rather than a static stop loss at 99 which would have lowered the profit

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